Raise the Drawbridge! No, Lower the Drawbridge!

by Jeff Fischer (TMFJeff)

ALEXANDRIA, VA (May 17, 1999) -- Many stocks are under a dark spell cast by Greenspan and his happy clan. The Federal Open Market Committee (FOMC) will meet tomorrow and discuss interest rates. It is feared by the Wise and other worry-warts that the Fed will adopt a tightening bias at tomorrow's meeting, meaning it'll lean towards raising rates in the future. However, the Fed isn't expected to raise rates yet. Inflation isn't prevalent enough.

If you've read the Fool for a few years, you know that rate concerns arise periodically. During some years the concern waxes and wanes as often as the moon. Just a few years ago, stocks fluctuated almost daily due to inflation and interest rate concerns. These concerns will never change. For many investors, interest-bearing investments always compete with stocks for investment dollars.

Not with us, however. We're not about to buy or sell a company based on interest rate movements. The relation between the two are few. Meanwhile, stocks have outperformed all competing investments when measured by decades, and we believe that we're buying companies that will outperform inflation and competing investments' interest rates whatever happens.

Overall, whatever the Fed does, remember that they've done it before in the past. Raise rates. Lower them. Raise. Lower. Raise. Lower. It's a drawbridge. It goes both ways over time. Therefore, the direction of interest rates shouldn't alter a long-term Fool's investment philosophy.

Other ups and downs may be relevant, however. An example of an up and down situation that is usually a downer is a price war. Typically, investors want to avoid companies in industries that are so competitive that price wars are built into business models. These business models might call for a 2%-4% profit margin during the one large quarter each year, and losses or squeaky-small gains during the three slower quarters. That's the mega-bookstore business model.

Can Amazon.com (Nasdaq: AMZN), operating online, avoid this type of model for its book business?

This morning Amazon cut prices on certain best-sellers to 50% below the cover price at all times. Barnes & Noble (NYSE: BKS) followed suit, stating that it will offer the same discount. The Fool's TMF Puck wrote BestsellersForLess (www.bestsellersforless.com) and they said that they'd go even better than Amazon after today, offering a 60% discount. This company simply compares its online prices to Amazon's and then goes lower, so it had to move lower following today.

The Amazon-inspired discount applies to three categories of the New York Times bestseller list, meaning that on the Times' list of 100 books, at least 67 titles will be available at half-price every day. Given this relatively small scope, some people argued that Amazon's price cut is mainly a publicity stunt. If so, it's been successful. Amazon's news has been reported on financial television shows, people on the message boards are sharing, and it will certainly be in major newspapers tomorrow. Amazon's CEO Bezos said the move isn't a promotion, however, it is simply "everyday low pricing."

Typically only 65 to 75 books will be offered at the 50% discount, so this new pricing shouldn't impact much of Amazon's revenue base. The 100 best-selling books reportedly account for only about 3% of leading online booksellers' revenue. So, selling specific high-profile books at a sharp discount is simply ye olde loss-leader approach. In a nutshell: get people in the door with the cheap, high-profile item and then get them to buy more on each visit. Knowing Amazon, this approach will work. (Me browsing my own book shelves: "I bought this book? Why? Oh yeah, Amazon suggested it. Well, looks good. Might as well read it.)

How low can prices go? Super-low on certain products. The idea will always be to attract visitors, perhaps lose a few bucks on some sales, but make up for it in other ways. Overall, the ultimate winner on the Internet is you and me -- the consumer -- so enjoy.

Meanwhile, Amazon is not experiencing an extensive price war yet, and such a war isn't likely to occur across entire product lines anytime soon. Although prices may eventually gravitate to "at cost" levels -- meaning commerce companies will strive to earn money by other means -- for now, and probably for at least the next few years, companies will always offer loss leaders but sell most products above cost. Amazon is probably in the best position to actually make progress doing so -- it has enough breadth of product and a strong enough customer base (and database, utilizing recommendation features) to make many customer visits beneficial for the company following the sale of a loss leader. Therefore, the aim is to attract customers to the site.

In a "lower the drawbridge, raise the drawbridge" fashion, Amazon's stock was down significantly for most of the day before closing up for the night. We'll track the pricing war phenomenon as it evolves.

A company raising drawbridges of sorts and lowering temperatures is Starbucks (Nasdaq: SBUX). It recently rose coffee prices by 10 cents per cup, and this week it announced new icy-blended beverages to cool your summer. They are:

  • Rhumba Frappuccino
  • Caramel Frappuccino
  • Peach Tiazzi
  • Peaches & Cream Tiazzi
  • Orange & Cream Tiazzi
  • Berries & Cream Tiazzi

The company wrote, "Starbucks invites you to taste these rich, creamy -- and most importantly, cool -- sipping sensations and enjoy a moment of... relaxation when the heat is on. Rhumba Frappuccino� is available now through September 30. All other summer beverages will be in the coffeehouses on May 12." (I had a sample of the caramel Frappuccino without even trying to. It was essentially thrust in front of me -- effective marketing. It was tasty.)

Meanwhile, we continue to wait with bated breath for Starbucks new online business to be officially announced and launched.

Starbucks -- mainly a beverage company -- can launch a largely-unrelated online business because the Starbucks brand has grown to represent "good experiences." Coffee is merely one aspect of the brand's equation. Ice cream, bottled frappuccino, chocolate, music collections and other ventures have succeeded at Starbucks partially due to the fact that if a company pleases its customers, customers are willing to trust the company with new ventures, too. If the company doesn't disappoint, the new venture can work -- no matter how daring -- and the brand's image is enlarged.

Growing a business by expanding the scope of its brand is probably one of the least expensive ways to grow. It needn't take millions in advertising to present a new pitch to the mass market. It merely takes, often, word of mouth among existing customers. Starbucks is achieving brand expansion in a way that rivals any other company. If fact, can you think of any company that has grown in so many directions based largely on smart use of the brand, a brand that stands for a way of life rather than a single product? Coca-Cola (NYSE: KO) and its Sprite and other beverages don't count -- those aren't prominently branded as Coca-Cola products the way that all new Starbucks ventures are.

The one company I think of is Amazon. Its brand obviously stands for something much larger than its initial business. If you have companies in mind that are expanding the scope of their brand, please share them on the Rule Breaker board.

Speaking of brand building -- ahem -- the Fool is giving away free copies of its new, colorful 64-page guide, The Motley Fool's 13 Steps to Investing Foolishly, when you register with the Fool. Share this gem with your family and friends. If you've already registered on the Fool, point others to the following URL to effectively give the new book as a gift. Fools can pick up the free guide here:


While you're at it, Fool on!

05/17/99 Close

Stock  Change    Bid 
AMGN  -1 15/16   59.06
AMZN  +5 1/4    137.63
AOL   +9 3/8    135.75
ATHM  +1 1/8    151.25
CAT   +  1/8     61.13
CHV   +1 7/16    95.88
DD    -1         69.88
DJT   +  1/16     5.38
EBAY  +12 9/16  198.44
GT    -3 1/4     59.94
IOM   +  1/16     5.00
SBUX  +  15/16   39.50
TDFX  +1 3/8     18.38

                  Day     Month  Year   History   Annualized 
      R-BREAKER  +4.27%  -7.58%  50.07% 1406.24%  76.36%
        S&P:     +0.13%   0.32%   9.29%  205.77%   26.34%
        NASDAQ:  +1.34%   0.75%  16.84%  255.72%   30.40%

    Rec'd    #  Security     In At       Now      Change
   8/5/94  2200 AmOnline       0.91    135.75   14836.46%
   9/9/97  1320 Amazon.com     6.58    137.63    1991.81%
  5/17/95  1960 Iomega Cor     1.28      5.00     290.50%
  12/4/98   450 @Home Corp    56.08    151.25     169.70%
  2/26/99   300 eBay         100.53    198.44      97.40%
   7/2/98   470 Starbucks     27.95     39.50      41.30%
 12/16/98   580 Amgen         42.88     59.06      37.76%
  4/30/97 -1170*Trump*         8.47      5.38      36.53%
  2/23/99   300 Caterpilla    46.96     61.13      30.15%
  2/23/99   290 Goodyear T    48.72     59.94      23.04%
  2/23/99   180 Chevron       79.17     95.88      21.10%
  2/20/98   260 DuPont        58.84     69.88      18.75%
   1/8/98   425 3Dfx          25.67     18.38     -28.41%

    Rec'd    #  Security     In At     Value      Change
   8/5/94  2200 AmOnline    1999.47 298650.00  $296650.53
   9/9/97  1320 Amazon.com  8684.60 181665.00  $172980.40
  12/4/98   450 @Home Corp 25236.13  68062.50   $42826.37
  2/26/99   300 eBay       30158.00  59531.25   $29373.25
 12/16/98   580 Amgen      24867.50  34256.25    $9388.75
  5/17/95  1960 Iomega Cor  2509.60   9800.00    $7290.40
   7/2/98   470 Starbucks  13138.63  18565.00    $5426.38
  2/23/99   300 Caterpilla 14089.25  18337.50    $4248.25
  4/30/97 -1170*Trump*     -9908.50  -6288.75    $3619.75
  2/23/99   290 Goodyear T 14127.38  17381.88    $3254.50
  2/23/99   180 Chevron    14250.50  17257.50    $3007.00
  2/20/98   260 DuPont     15299.43  18167.50    $2868.07
   1/8/98   425 3Dfx       10908.63   7809.38   -$3099.25

                              CASH   $9924.87
                             TOTAL $753119.87
Note: The Rule Breaker Portfolio was launched on August 5, 1994, with $50,000. Additional cash is never added, all transactions are shared and explained publicly before being made, and returns are compared daily to the S&P 500 (including dividends in the yearly, historic and annualized returns). For a history of all transactions, please click here.


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